Market structure and imperfect competition

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Market structure and imperfect competition
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Determinants of market structure

• Number of companies
• Nature of the product homogenous (identical),
  differentiated
• Freedom of entry and exit
• Barriers to entry
• Control over supply
• Control over price

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Types of market structure

• Perfect competition
• Monopoly
• Duopoly
• Oligopoly
• Monopolistic competition

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Features of perfect competition

• Large number of buyers and sellers no
  individual seller can influence price
• Free entry and exit to industry
• Homogenous product advertisement has no
  influence on customers decisions
• Perfect information available to buyers and
  sellers

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Advantages of Perfect Competition

• High degree of competition helps allocate
  resources to most efficient use
• Price marginal costs
• Normal profit made in the long run
• Firms operate at maximum efficiency
• Consumers benefit

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Monopoly

• A single seller and many buyers
• High barriers to entry (technological,
  economical, law-regulated)
• Not homogenous products
• Consumer choice limited
• Firm controls price or supply
• Abnormal profits in long run
• Possibility of price discrimination

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Advantages of monopoly

• May be appropriate if natural monopoly
• Encourages RD
• Encourages Innovation
• Development of some products not
  likely without some guarantee of monopoly in
  production.

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• Disadvantages of monopoly
• Exploitation of consumer higher prices
• Potential for supply to be limited- less choicee

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Monopolistic competition

• Large number of small firms and buyers
• Free entrance and exit to the market
• Differentiated products
• Differentiated product lets firms set prices
• Ease of entry means new competition erodes
  profits of firms e.g. pizzerias
• Prices can be set by firms to some extend
• The market share of each firm depends on the
  price it charges and on the number of firms on
  the market

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Entry and potential competition

• Concerns the effect of potential competition from
  new entrants to the industry on the behaviour of
  existing firms
• Three cases to be distinguished
• Entry is easy
• Entry is difficult by accident
• Entry is difficult by design

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Entry and potential competition when
Entry is easy

• Contestable market
• market with free entry and free exit
• allows hit-and-run entry (entrant can step in,
  make a temporary profit and quit again)
• Influence of globalization
• May augment supply, bid down prices and profits
  in the domestic markets if monopoly profits are
  too high
• Foreign firms may set up production facilities in
  the home market
• Enlarge the relevant market and make entry
  easier.

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Types of entry barriers

• Innocent entry barriers those which are not
  deliberately created by alredy operating
  companies

• Not innocent entry barriers

Since the level of entry barriers limits the
entrants companies, incumbent firms may try to
influence it, to avoid potential competition.
Entry will be difficult by design.
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Oligopoly Interdependence

• Collusions
• Cartels.

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Collusion Agreement to avoid competition
Pm
Price, cost, revenue
ACMC
Pc
DD
MR
Qm
Quantity
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Profits from collusion

• Profit maximization
• Collusive monopolist

• Desire to compete.

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CartelsLegal formal agreements

• Common in the late 19th century
• Nowadays prohibited in Europe, USA and other
  countries
• OPEC the Organization of Petroleum Exporting
  Countries (1973)

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Game theory and interdependent decisions

• A game is a situation in which intelligent
  decisions are inevitably dependent on you.
• A strategy is a plan describing how a player
  acts, or moves in each possible situation

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John Nash Equilibrium

• Each player chooses the best strategy, but
  confronting it's strategy with other players

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Dominant Strategy
Firm B output
High
Low
1 1
3 0
High
Firm A output
Low
0 3
2 2
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Dominant Strategies

• A commitment is an arrangement, entered into
  voluntarily, that restricts future actions
• A credible threat is the one that, after the fact
  is still optimal to carry out

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Summary
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The end